May 2, 2009

Reasonable Royalty

35 U.S.C. §284
awards damages "in no event less than a reasonable royalty for the
use made of the invention by the infringer." Reasonable royalty is thus the
lowest award possible for patent infringement, and in no way bounds what
infringement should cost. §284 also allows award of enhanced damages, regardless
of willfulness: "[T]he court may increase the damages up to three times the
amount found or assessed." Herein, a gander at the damages floor: reasonable
royalty.

A basic formula for damages based upon reasonable royalty:

Damages ($) = Royalty Base ($) x Royalty Rate (%)

where the royalty base
relates to the revenue of infringing products, and royalty rate
is a reasonable royalty rate.

With some exception, damages begins with infringement. So, nominally, royalty
base for damages is the duration of infringement, bounded by patent expiration.
§286 limits damages duration to six years prior to filing a complaint. And
§287, the marking statute, requires a manufacturer to mark products
embodying a machine or composition patent claim, else, without such constructive
notice, the damages clock only begins ticking with notice, such as "filing of an
action for infringement." Non-manufacturing patent holders are thus exempt from
§287, and method claims don't apply either.

The 1970 Supreme Court decision in
Georgia-Pacific v. United States Plywood laid down what has become
the case law bible for assessing damages, listing 15 factors for
consideration in assessing damages. With regard to reasonable royalty, the
following factors stand out:

8. The established profitability of the product made under the patent;
its commercial success; and its current popularity.

9. The utility and advantages of the patent property over the old modes or
devices, if any, that had been used for working out similar results.

10. The nature of the patented invention; the character of the commercial
embodiment of it as owned and produced by the licensor; and the benefits to
those who have used the invention.

11. The extent to which the infringer has made use of the invention; and any
evidence probative of the value of that use.

12. The portion of the profit or of the selling price that may be customary
in the particular business or in comparable businesses to allow for the use
of the invention or analogous inventions.

13. The portion of the realizable profit that should be credited to the
invention as distinguished from nonpatented elements, the manufacturing
process, business risks, or significant features or improvements added by
the infringer.

15. The amount that a licensor (such as the patentee) and a licensee (such
as the infringer) would have agreed upon (at the time the infringer began)
if both had been reasonably and voluntarily trying to reach an agreement;
that is, the amount which a prudent licensee - who desired, as a business
proposition, to obtain a license to manufacture and sell a particular
article embodying the patented invention - would have been willing to pay as
a royalty and yet be able to make a reasonable profit and which amount would
have been acceptable by a prudent patentee who was willing to grant a
license.

The thrust of these guidelines is an assessment of what infringement is worth
to the infringer.

The last GP factor (15) goes to a hypothetical negotiation: what would the
infringer have been willing to pay, and the patent holder willing to accept?
Such a hypothetical negotiation is purely speculative. As amply evidenced by
innumerable litigations, large corporation are particularly apt to treat patent
litigation as a roll of the dice, unwilling to consider licensing until the dice
dots make a showing. But that factor is considering the most telling, as it
posits an objective viewpoint, one well suited for an adjudicator (a judge).

Georgia-Pacific represents an apportionment of product profit, with
the patent holder, under reasonable royalty, entitled only to that portion
attributable to infringement. In other words, GP aimed at figuring
infringing feature value.

There is then the issue of whether the patent holder is entitled to all of
the infringing feature value. With that in mind, royalty rate may be figured as:

Royalty Rate (%) = Infringing Feature Value
(%) x Value Split (%)

Where the infringing feature value is an assessment of what the
patent is commercially worth to the infringer, and value split is the relative
split in infringer profit from adopting the patent technology.

An
economic theoretician1 might posit value split as follows:

The normal
profit is the economic return on the investment in developing, producing and
marketing the product, while the monopoly profit is the economic return
resulting from the patent itself.

After paying
the royalty, each licensee earns only its normal profit, and all of the
monopoly profit is paid to the patent holder in royalty payments. Thus, in a
competitive licensing market the patent holder is able to license its
invention without giving up any of its monopoly profit.

With few
potential licensors in the market, the royalty is likely to be bargained and
not established unilaterally by the patent holder at the level which
extracts all of the patent profit from the licensees.

Fine and dandy.
Determine market competitiveness, then slice off monopoly profit for the patent
holder accordingly. Tell it to the judge. Hence the problem
with academic prescriptions that are at best tangential to reality, and provide
no substantive guideline for sussing something out.

More practically,
under a hypothetical negotiation scenario, an infringer would not have adopted a
patent technology if unable to profit it from it to some extent, even if that
meant staying competitive: in other words, to avoid loss by not infringing. What
that means is that value split may reasonably something less than 100% to the patent holder.

By that logic, an infringer is entitled to profit from infringement. One
rationale is that the infringing adopter took risk in commercializing its
product(s), and so entitled to profit somewhat, even from infringement.

In 1959, patent
consultant Robert Goldscheider advised his client, Philco, who had an ongoing
patent licensing campaign, that Philco's licensees assumed the major risk of
commercializing their products. Goldscheider surmised that risk at 75%, leaving
25% as value split to the patent holder. The Georgia-Pacific factors make
no mention of the risk concept embraced by Goldscheider.

But folks cotton to
simple rules, and so this arbitrary division stuck, all the while being a
lightning rod of controversy. Goldscheider himself recognizes the 25% rule as
just a starting point. "Unfortunately, its application is not nearly as simple
as it initially appears." Greed feeling free to roam, Goldscheider has noted
that patent holders think of it as the "25% to 33% rule," while potential
licensees view it as "15% to 25% rule."

The revenue base that Goldscheider preferred was pretax profits, which is not
a notably clean number to ascertain. Most companies sell multiple products, and
typically not all infringe a particular patent assertion. There is no
governmental accounting requirement for companies, nor necessarily an easy way,
to apportion expenses on a per product basis, and so derive a tidy profit number for
an infringing product. Further, much accounting shenanigan potential lies
between product revenue and corporate profit. Sales revenue is however a readily
available number, and, considering that the simple Goldscheider 25% rule for
value split creams off most of infringing feature value to the infringer, sales
revenue may be considered appropriate in its simplicity, just as the 25% rule is
convenient in its simplicity.

Tradition weighs in on royalty rate to some extent, as evidenced by GP
factor 12. A few organizations, including the
Licensing Executives Society (LES) and the
Association of University Technology Managers (AUTM), publish royalty rates
by industry. But as patents are by definition unique, it smacks of insensibility
to slap a standardized number on infringing feature value, particularly when
specific factor analysis is much more appropriate and doable.

Some finer points to consider in determining infringing feature value, and
which correspond to Georgia-Pacific factors:

1. Is the infringing feature advertised? Is so, it is an admission of
considerable value to the infringer.

2. How has the infringing feature been perceived by the consumer? Some
patents provide a manufacturer with a perceived positive value, to which a
consumer may be neutral or even anathema. Copy protection for software is an
example. Mixed perception complicates infringing feature value assessment.
Unabashed applause argues for a high infringing feature value.

3. Does infringement provide a tangible competitive edge? This may be
more easily viewed from the inverse perspective: how much more poorly would
an infringer fare without the infringing feature?

4. Does infringement esteem the infringer? A subtle form of convoyed
sales: is the infringing product, and hence its maker, perceived as more
state-of-the-art?

Posted by Patent Hawk at May 2, 2009 3:27 PM
| Damages

Comments

Of your text -- The 1970 Supreme Court decision in Georgia-Pacific v. United States Plywood laid down what has become the case law bible for assessing damages, listing 15 factors for consideration in assessing damages--, note that the 1970 decision is a district court decision [ 318 F. Supp. 1116 (S.D.N.Y. 1970)]. The amount of the award was reduced on appeal, and the Supreme Court declined to hear the appeal from the Second Circuit. [ 92 S.Ct. 105 ]

Merely as an observation, Mark Lemley, in his prepared testimony before Congress on March 10, 2009, did not mention the Georgia-Pacific case.